Japan’s price increases and higher interest rates could benefit the country’s credit profile by inflating debt away and promoting productivity despite higher pressure on public finances, stated Fitch Ratings recently. The credit rating agency also states that Japan’s credit profile benefits from the modestly stronger inflation outlook.
Lower debt-to-GDP ratio
For Japan, higher interest rates and inflation are more positive for the economy’s health. For instance, higher inflation helps lower the value of outstanding debt and pushes down the debt-to-gross domestic product (GDP) ratio. However, it could also encourage workers to switch jobs and look for higher wages.
Higher interest rates and inflation in Japan could also make more capital available, raising productivity, and this could have a positive impact on the country’s economy.
Public finances remain a challenge
Earlier, Fitch set Japan’s credit rating at A with a stable outlook, five notches below the top AAA rating. With the country’s debt-to-GDP ratio improving in recent years, a persistent decline in the ratio could raise its credit rating. However, Japan’s public finances remain a challenge to the country’s rating and the government has yet to outline significant fiscal consolidation or additional revenue measures to fund the rising spending.
The government has pledged a primary budget surplus by the next fiscal year, a target many analysts see as optimistic. Notably, Japan’s public debt stands at more than double its economy, by far the biggest among industrialized economies.
Read: Japan’s base pay rises 2.5 percent in May, the fastest in 31 years
Banks’ impact on Japan’s credit profile
In a recent analysis, Fitch also states that Japan’s implementation of the finalized Basel III capital standards in March 2024 will likely increase its risk-weighted assets (RWA) and put further pressure on capital ratios at most of the country’s major banks over the next five years.
The impact of lower capital ratios on Japan’s credit profile also depends on several factors, such as banks’ earnings retention and investment strategies, their asset quality, and potential shifts in their business profiles, including their risk appetites.
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